Thank You

Error.

The old saw that gridlock along Pennsylvania Avenue benefits Wall Street will be severely tested in October, when intractable Republicans and unmovable Democrats must make decisions on the nation's budget and debt limit.

By the way, since 1900, that old saw has been wrong most of the time. For all but the past couple of years—when the Federal Reserve took steps to pump up stocks—there's been a powerful correlation between slower S&P 500 growth and political gridlock.

Between 1900 and 2010, the S&P 500 rose 7.6% annually, on average, when one party controlled both the White House and Congress, versus 3.2% when control of Congress was split, according to data compiled by Sam Stovall, S&P's chief investment strategist. This correlation was even stronger between 1945 and 2010, when the S&P 500 rose 10.8% annually during 28 years of one-party control, versus 3.5% when total gridlock prevailed.

To Stovall, partial gridlock occurs when one party controls both houses of Congress and another party is in the White House. Total gridlock occurs, when different parties control each house of Congress—the current situation.

During the 30 years in which we had partial gridlock, the S&P rose 8.6%. And from 1945 to 2010, during the six years that Republicans controlled both the White House and Congress, it jumped an impressive 15.1%.

NOW WE HAVE GRIDLOCK within gridlock, with Republican factions unwilling to work with one another, let alone with the Democrats. In the House, the divisions within the Grand Old Party are so pronounced that Speaker John Boehner (R., Ohio) can't manage his colleagues. "My job, as the leader of the House, is to facilitate this… process," Boehner told Face the Nation moderator Bob Schieffer in July. In effect, he was declaring himself a guidance counselor. Even so, the S&P 500 has been reaching new heights with some frequency. My colleague Kopin Tan reported last week (Streetwise, Aug. 5) that the S&P 500 hit 25 record highs this year.

I asked Stovall to update his 2010 figures, which he did, taking them from 1901 through 2012. The new figures show that the S&P 500 rose 7.6% under a unified government, versus 5% for a split Congress. But during the first three years in which Barack Obama, a Democrat, was in the White House and Congress was split, the key average rose 11.1% annually.

The "improvement" is due to Federal Reserve Chairman Ben Bernanke & Co., whose actions have shielded the stock and bond markets from the dysfunctional political system. In effect, the Fed boss has let investors pretend that Congress' dereliction of duty is meaningless. Bernanke admitted as much during an appearance before the Senate Banking Committee last month, when he invited the lawmakers to share some of the Fed's burden of maintaining economic growth. Now the charade is over, with Bernanke warning that the Fed will curb its activities as unemployment comes down.

Based on the immediate past, the odds of a rational fiscal policy from this Congress are slim to none. The possible consequences from an impasse in October range from a government shutdown to Uncle Sam's inability to pay outstanding bills to a continuing resolution, or "CR," which would keep existing funding and programs in place, even wasteful ones.

With a promised return of reality, investors should weigh the strong correlation between gridlock and slower S&P growth.